Wishful thinking alone will not help in the fight against inflation

The persistently high inflation is keeping investors busy. But despite various negative signals, the stock markets do not seem to take any notice. A breakdown by Geir Lode, Head of Global Equities at Federated Hermes Limited

In a world facing a number of major challenges, there is a lot of optimism in the stock markets right now. Inflation is weighing on corporate profits and weighing on consumer sentiment. A global recession seems likely as growth continues to weaken. Finanznachrichten und Rezensionen Geopolitical tensions and the rise of populism are accelerating the trend toward localization (and raising the risk of an even darker future). Climate change threatens us all. And yet stocks continued their strong June rally this week.

It’s easy to dismiss this development as a classic bear market rally – but this thesis is put to the test with every further uptrend. Indeed, the end of the bear market may not be in the immediate foreseeable future. And the end is not expected to follow any specific drastic event. Instead, it will be a combination of factors, a slow shift towards optimism by a handful of investors. And that trend will become self-sustaining as investors on the outside fear they are missing out and short positions become too painful.

We recognize that turning points are only easy to spot with hindsight. We therefore remain well diversified, but continue to believe that the current risks outweigh the opportunities. Our proprietary risk aversion indicator shows increased optimism, albeit from a very low base: it remains risk-averse. Wishful thinking alone will not help in the fight against inflation. The expectation that interest rates will quickly peak and come back down says less about the Fed’s ability to control inflation and more about the bleak outlook for growth.

We believe that in this environment it is particularly important to focus on the fundamental quality of investments. And that investors’ appetite for growth speculation is unlikely to last, as evidenced by the recent divergence in the success of mega-cap tech stocks. ”

The views and opinions expressed here are those of the author. They do not necessarily coincide with the views expressed or reflected in other communications. This release is neither a solicitation nor an offer to buy or sell any security or financial instrument mentioned herein.

“I’m back here, in my area, was never really gone, I just hid myself” This refrain from a song by Marius Müller-Westernhagen goes well with the development of inflation in recent years. For a long time it seemed to have disappeared, but Corona, war, geopolitical turbulence and unrestrained national debt made it reappear. Monetary policy should now be used to combat inflation mercilessly. However, central banks and governments also fear severe economic, financial and social consequences if they are too harsh.

After 40 years, inflation is showing its ugly face again
Until 2019, the Western financial world believed that it had found the philosopher’s stone: globalization and industrial optimization carried out to the max seemed to undermine the old economic theory that too cheap and too much money leads to high price increases. With the simultaneous secularization of the sacred EU stability criteria, getting into debt in Europe was easy and cheap. If, like at the butcher’s, the question was asked, “May it be a little more? ” the government’s answer is always yes. In fact, every crisis was counteracted in terms of interest and liquidity policy with the cornucopia of monetary policy.

When inflation nevertheless started to rise after Corona, the narrative of only temporary inflation was built. During this time, monetary policy has gradually allowed itself to be made into a state agent. This may also be due to the “independence” of central bankers. Because politics decides who becomes a central banker. And why, please, should politicians name “cheap buns” that make it difficult for them to spend money? Nobody puts a louse in their fur voluntarily, right?

But temporarily, apparently, can last a very long time. During this “temporary” period, supply shortages, rising energy and commodity prices, and deglobalization and protectionism have resurrected inflation. Above all, second-round effects were given a lot of grist to their mills. Or does anyone think that companies and governments won’t pass on the higher wages caused by inflation in the form of higher product prices or fees and local taxes?

And then the green transformation of industrial society takes effect. While Russian gas was unrivaled cheap, decarbonization and heat transition will drive up the price level in the long term. In addition, massive amounts of electricity are to be saved, so that overall a reduced supply meets an ever-increasing demand through heat pumps, e-mobility and digitization. This will not lead to falling energy prices.

The state as a driver of inflation

In order for Germany to remain competitive, politicians want to subsidize industrial electricity. It is first made artificially expensive in order to then artificially make it cheaper. Herbert Grönemeyer’s “Children to Power” has become reality. And since the de-industrialization of Germany will also cost prosperity, papa state cannot avoid further lavish social spending to maintain social peace. After all, since US President Biden started a subsidy race, Europe has been planning similar projects and higher defense budgets anyway. And so spending discipline falls by the wayside. Christian Lindner’s savings requirements are as popular with his cabinet colleagues as a.

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